Thursday, January 9, 2014

On Income Inequality in Australia

In their second Economic Roundup for 2013, the
Australian Treasury released an article (by Michael Fletcher and Ben Guttman)
on Income
Inequality in Australia. The article looks at changes in
income inequality in Australia over the past twenty years, and tries to explain
those changes. Also, it asks, if income inequality is in fact increasing, how
much should we care?That question may seem a little callous at first –
we’ll come back to it. First, there is the question of what has happened to
income inequality in Australia. The answer to this in part depends upon how
income inequality is measured. (As the definition of income, the authors use
equivalised household disposable income, which to me at least seems fairly
uncontroversial – this is the income the household receives, plus cash
transfers provided by government, less direct taxes, and adjusted for the
composition of the household.) Using the ‘Gini coefficient’ measure of income
inequality, the income distribution in Australia has become more unequal over
the past twenty years, and has done so for all states (more so for Western
Australia). The ‘P90/P10’ measure – the income of a household in the 90th
percentile (i.e. just at the top 10 per cent) compared to the income of a
household in the 10th percentile (i.e. just at the bottom 10 per
cent) – has also increased over this period. However, the ‘P80/P20’ and
‘P80/P50’ measures have been fairly steady.Personally, I like the Gini coefficient measure,
as it captures what is happening in the whole distribution, not just at
particular points of it. (See the Wikipedia page
for how the coefficient is calculated, as well as its limitations.) So income
inequality is increasing, and the authors show that it has increased at a
greater rate than other developed nations. What might be driving this? Labour
earnings inequality has been decreasing (with employment amongst low-income
households increasing), but this appears to have been offset by changes in
investment income, at least up until the global financial crisis.However, Australia’s
sustained period of economic growth and other factors means that Australia’s low-income
households have actually fared relatively well by international standards in
terms of income growth, even if they have fallen further behind other
households in Australia. Which brings us back to the question: how much should
we care? If my income (after accounting for price changes) is increasing, why
should I care if those of my fellow citizens are increasing by more? Well, many
people do – studies
have shown that people care if their relative income falls, even if their
absolute income is rising. Even if we were all ‘psychologically
well-adjusted’, there may be other reasons to care about inequality (for
example, increasing ‘social cohesion’). Fletcher and Guttman claim that Australia
allows for the greatest share of benefits to be targeted towards low income
earners compared to any other developed nations, so implicitly it seems we care
about inequality a lot. But while it looks like we should be mindful of our
increasing income inequality, it doesn’t look like we should panic about it
just yet.